How to Blow the Whistle to the SEC

By Vincent Ryan for CFO.com

Want to blow the whistle on your company and receive a fat monetary award from the Securities and Exchange Commission for reporting a securities law violation?

Since the SEC Office of the Whistleblower announced its first award in 2012, it has issued 29 of them exceeding $1 million. One of those was a payment of nearly $50 million to two joint whistleblowers, according to law firm Katz, Marshall & Banks. What’s more, in the government’s fiscal year 2018, the SEC issued awards in the amount of $168 million to 13 individuals, more than in all previous years combined. While the SEC has proposed recently that it impose a cap on awards, providing a tip can still be lucrative (besides, of course, being the right thing to do.)

Becoming a whistleblower requires a lot of forethought, though. Do you report the fraud internally first or go directly to the SEC? Should you provide the tip anonymously, and should you expect to be able to remain anonymous? Is this a case the SEC would be interested in enforcing and can you make a compelling argument that it do so? Finally, and most important for some potential whistleblowers, does U.S. law protect a whistleblower from retaliation by his or her employer?

The following are some points to think about before taking the plunge. These points are based on Katz, Marshall & Banks’ SEC Whistleblower Practice Guide, released this week. The guide was written by attorneys Lisa Banks and David Marshall.

“Voluntarily” means the information about misconduct has to be provided before the whistleblower receives a request, inquiry, or demand for it from the SEC, or in connection with an investigation, inspection or examination by the Public Company Accounting Oversight Board or by Congress or other federal authority.

To qualify as “original information” that will support a claim for an award, the whistleblower’s tip must consist of information that is derived from the person’s “independent knowledge” or “independent analysis.” The SEC can’t already know about it from some other source, in other words, and it can’t be “exclusively derived” from allegations made in certain judicial or administrative hearings, government reports, audits, or the media unless the whistleblower is the original source, say Banks and Marshall.

The SEC has described only one award to date as having been based solely on independent analysis, say Banks and Marshall. In January 2016, the SEC issued a whistleblower award to a “company outsider” who analyzed publicly available information regarding practices of the New York Stock Exchange that favored high-frequency traders over other investors.

Employees in certain roles, such as attorneys, compliance personnel, auditors, and corporate officers, can participate in the SEC’s whistleblower reward program only under certain circumstances, say Banks and Marshall.

For example, a corporate officer who learns of the information in connection with the company’s processes for identifying and addressing unlawful conduct is generally not eligible. The same goes for public accounting firms engaged in an audit.

However, these persons can be eligible if the would-be whistleblower “reasonably believes” that disclosure to the SEC is needed to prevent “substantial injury” to the entity or investors, or that the organization “is acting in a way that would impede an investigation of the violations.” The other exception is in cases where 120 days have passed since the whistleblower reported the information internally to the audit committee, chief legal officer, or other appropriate officials and the organization hasn’t taken any action.

The SEC rules make clear that the main purpose of the whistleblower program is to encourage individuals to provide high-quality tips directly.

However, there are provisions that incentivize whistleblowers to use internal corporate compliance programs. For example, the SEC affords whistleblower status to an individual as of the date he or she reports the information internally (as long as the employer then provides the same information to the SEC within 120 days). In addition, whistleblowers get full credit if they report the information internally and the employer then investigates and self-reports the information to the SEC. “A whistleblower’s participation in an internal compliance and reporting system” generally means a higher award, say Banks & Marshall.

One thing to note: the SEC doesn’t like when suspected securities violations are not reported on a timely basis, whether from employee or employer. They may reduce an award because of it. In September 2014, the SEC gave $30 million to an overseas whistleblower whose information allowed the SEC to stop an ongoing fraud that would otherwise have gone undetected. But the SEC explained that “it had adjusted the whistleblower’s award downward because the whistleblower delayed reporting a serious fraud for a period long enough to allow additional investors to be harmed,” say Banks & Marshall.

While reporting internally first might mean a larger award, the whistleblower could be subject to retaliation from his or employer. The Sarbanes-Oxley and Dodd-Frank Acts do provide legal protections against retaliation, however. In addition, the SEC Whistleblower Program has expanded protections for employees in recent years. The SEC has already won three successful enforcement actions for companies that retaliated against employees who reported securities violations.

The SEC has also “taken aim”  at employer-imposed agreements that might impede the flow of information from employees, say Banks & Marshall. “These agreements often signed by the employee as a condition of employment itself or as a condition of receiving severance payments.” Some require the employe to certify that they have not shared confidential information with any third party and to alert the employer to any inquiries from government agencies. Some also require the employee to “waive their right to the monetary awards that Dodd-Frank directed the SEC to provide to whistleblowers,” according to the attorneys.

A notable case occurred in 2016 when the SEC sanctioned Merrill Lynch for requiring some departing employees to sign agreements prohibiting them from disclosing confidential information except in response to a legal process or with the firm’s permission. The agreements also limited the kinds of information employees could report to the SEC.

A tip has to lead to a successful enforcement action to garner an award. An individual must file a Tip, Complaint or Referral (TCR) form (available on the SEC website). The form can be submitted either online or by mailing or faxing it.

The SEC emphasizes that the information must be compelling. “With the SEC receiving a steadily increasing number of tips per year — more than 5,200 tips in FY 2018 alone —  it is important that the first read of a whistleblower tip provide SEC staff with a sound understanding of the alleged violations and, to the extent possible, how to investigate and prove them,” say Banks and Marshall.

Tips can be filed anonymously but “the [SEC] acknowledges that there are limits to its ability to shield a whistleblower’s identity under certain circumstances,” say the attorneys. Anonymous tips have to be filed through counsel.

One last item: If you took part in the securities law violation, you can still report it and receive an award. “The SEC has issued awards to whistleblowers who took part in the offending misconduct but has also offset or reduced such awards by penalizing whistleblowers for their culpability when setting the amounts of awards,” according to Banks & Marshall.